Dragon slayers beware of currency wars

We love the currency wars but it’s hardly cinematic stuff. For those expecting some Game of Thrones-style combat, move on right now. Mind you, as it appears they trade gold dragons in the Seven Kingdoms, they’re probably equally as worried about quantitative easing as we are.

The Bank for International Settlements (or the central bank of central banks) has done a study of the impact of currency market interventions (net dollar purchases and net dollar sales) in four emerging economies and found – if anything – intervention will cause unintended volatility. Mostly, central bank purchasing and selling did not have its intended effect on FX forecasts.

Morgan Stanley
has reduced its economic growth forecast for Australia to 2.6 per cent from 3.1 per cent for next year, joining
Goldman Sachs
, which slashed its estimates this week as concerns about the economy and risk of recession build.

Strategist
Chris Nicol
said weak data from China, a negative bias towards emerging market economies as investors lose confidence in quantitative easing, and what he calls a “now is not the time" moment for Australia, are reason enough to downgrade.

China has copped a downgrade but it’s hardly severe. The broker’s China gross domestic product estimates have come down to 7.6 per cent from 8.2 per cent this year, and 7.6 per cent from 7.9 per cent next year.

Thursday marks the end of the bull market, or the bullish interlude that spanned June 4, 2012 to today. Did you see Japan? Another shocker, with the Nikkei down 6 per cent-plus and Japan goes into bear market territory. Everything, everywhere is coming down and the best answer anyone can come up with is the threat of tapering.

From our cyclical peak of 5220.987 on May 14, 2003 to Thursday, we are down 10.06 per cent. Correction! We are still ahead 17.8 per cent from our cyclical low of 3985.025 on June 4, 2012. To some people, that means the end of the bull market, too, but finding a consensus on this rule was difficult, so I am open to other interpretations.

The ASX 200 isn’t the only market correcting today. Apparently the MSCI Asia Pacific Index has wiped out its 2013 gains. And the chance of a rate cut next month has been squeezed to 32 per cent from 45 per cent.

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Indonesia’s central bank raised interest rates because it’s worried about inflation. This was a shock to economists who follow Indonesia but emerging economies have it tough, as our correspondent Johnny Shapiro wrote on Wednesday, battling risk-off sentiment and hot-money outflow. Brazil will further reverse some of the controls it put in place to stop the real from sinking further. What this means for the World Cup I still have to figure out but football tourists tend to get ripped off irrespective of FX markets.

As usual, all this comes back to the Federal Reserve in some way and as markets have more time to digest the implications of tapering, they are getting increasingly frightened by its consequences. So much for Ben Bernanke’s repeated promises this exit will be carefully staged. Everything we see points to a messy extraction.